3. In February 1995, Copiers, Inc. Issued one-year zero-coupon bonds with a face value of $1000. The bonds sold for $910 a piece and were rated AA by Standard & Poors. Buyers of the bonds were promised a single $1000 payment at the end of one year. At the time the bonds were issued, one-year Treasury securities were yielding 6.6%. Assume that the market risk premium was 7.2%.
A. What was the yield-to-maturity at the time if issuance of the Copiers, Inc, bond?
One-Year Zero Coupon Rate, with an AA rating.
Face Value = $ 1,000.00
Bond Issued at = $ 910.00
Years to Maturity = 1 year
Treasury Securities Interest Rate = 6.6 %
Market Risk Premium = 7.20 %
If Present Value = Future ...view middle of the document...
19 | 6.60% | 13.80% | 7.97% |
AAA | 0.2 | 6.60% | 13.80% | 8.04% |
AAA | 0.21 | 6.60% | 13.80% | 8.11% |
BBB | 0.22 | 6.60% | 13.80% | 8.18% |
D. Why are yield curves typically upward sloping?
Yield curves are normally upward sloping as a result of long-term rates higher than short-term rates, this could be explained by the following reasons:
* Expected Economic Growth. The market normally expects higher economic growth in the long-term, thus the longer the period and the higher the expected economic growth, the more upward sloping the yield curves
* Rate of Inflation. It is also expected to be higher in the future, as it erodes the value of money and the purchasing power, investors expect and extra compensation that is called the Inflation Premium.
* Risk. The longer the investing period the greater risk of loss resulting from increases in interest rates. The extra compensation given to investors to bear risk is the interest rate risk premium
Weak Future Economic Growth scenarios...